In the recent past, Manulife has gone to great lengths to position itself as a paragon of all things great, corporately speaking. It is anything but. Meanwhile the much vaunted corporate model has taken a credibility beating of its own.

The real world stress test of the last nine months have proven Manulife to be anything but a paragon of corporate virtue, and make it a perfect case study for Roger Martin’s theory that the global financial meltdown was brought about through improper compensation schemes for corporate managers that reward them for taking too many risks and taking the wrong risks. He is calling for the abolishment of stock options. Personally I wouldn’t go that far, however I am calling for the abolishment of the favorable tax treatment of employee stock options gains. Arbitrarily taxing these gains at half the rate of employment income is something is grossly unfair to all taxpayers and is rewarding the very behaviour that brought about the global financial meltdown and the multitude of taxpayer bailouts caused by it (like ABCP).

The global financial meltdown exposed the weaknesses of Manulife’s business model, that saw the company’s stock lose 75% of its value and require major infusions of capital to bolster its capital adequacy. Now we have the OSC launching an investigation of Manulife stating that the company failed to provide adequate disclosure on these matters that caused Manulife’s fall from grace, namely the issuance by Manulife of products like Income Plus and other variable rate annuities that it failed to hedge, and according to the OSC, that Manulife failed to disclose these inherent risks in its public disclosure documents.

It is good that the OSC is looking at this and the the head of OSFI recently made cautionary comments to the industry about this product line, however that’s not what’s needed here. The regulators can only regulate in the context of the legislation that they regulate. The life insurance industry has infected their main line business with the risks taken these types of new activities.....that Warren Buffett calls “crazy”. What would he say about those insurers like Manulife that didn’t even bother to hedge?

This is an issue that should be pursued by the lawmakers in Ottawa and new rules should be written and enforced to avoid these new systemic risks from new lines of business entering the main line business of life insurers, which is life insurance and not writing naked put options on the stock market, which is what maby of these products are the equivalent of, prompting Professor Kin Lo of the Sauder School of Business to observe:

"Insurance is about protecting people from risk and what we have seen is the insurance industry going out and seeking risk."

I was raising these very issues over two years ago, when the CEO of Manulife was before Parliament on February 1, 2007 giving testimony and calling for the abolishment of income trusts, and which incidentally would serve to bolster the sales of variable rate annuities by life insurers like Manulife. Unlike the MPs on the Finance Committee, my focus was on what these statements meant for Manulife rather than income trusts, and the risks that these products would bring to Manulife. On that date, I wrote an email entitled Questions for Mr Manulife, that read:

“What is the capacity of the Canadian banking system to provide you with swap arrangements that enable Manulife to offload the risk associated with this [type of variable rate annuity] product? Is this a profitable line of business for the banks? Whose credit risk are your investors exposed to? Yours or somebody else’s? Where is this disclosed in your advertising? How do you provide your Income Plus investors with on-going reporting of this shifting risk aspect of your product over time?”

These matters are now the subject of the OSC investigation that was announced on Friday and which we learn today may become the subject of a class action lawsuit

Meanwhile on the question of capital adequacy, the CEO of Manulife gave testimony on February 1 at the Public Hearings , where he was making a big deal about the great virtues of the corporate model versus the income trust model and the need to retain capital and have access to capital. On that day, I responded by asking the question at the time of “Are you saying that your capital adequacy ratios are insufficient and need to be raised to better protect your policyholders” and blogged the following question on May 4, 2007, and facetiously asked “ Are you saying that Manulife needs to increase its Tier 1 and Tier 2 capital adequacy?

I was more accurate in this suspicion than I had expected, as the answer to that pertinent question became self evident over time, and Manulife’s capital proved to be inadequate for these risks that were being assumed by Manulife, and which were not being adequately disclosed to shareholders, according the OSC. Meanwhile these are questions I was asking over two years ago. Where were the regulators then? Where was Ottawa then?

2 comments:

Anonymous
said...

A good first step . . . let's see what kind of follow through we see. Typically the government will simply go throught the process as a face saving excercise, however, at the end of the day MFC will be deemed too important or too big to mess with at a "critical" time . . . and at the end of the day the old "slap on the wrist"

Dominic got his money out of Confedulife - it'll be interesting to see who else bails.

EVENTS

Income Trust Halloween VigilThanks to all who participated in both the Ottawa and Calgary vigils to mark the anniversary of the announcement.

WE"D LIKE SOME ANSWERS

As you well know, the ‘income trust thing’ has grown beyond the
question of whether fair taxes are paid on income from trusts. It’s
become a giant dirty snowball, and as it rolls forward it accumulates
more and more bulk. There are so many unanswered questions. Let's list a few and invite our "Accountable" government and our free press to provide some much-needed answers.

It is said “Trusts are inefficient use of capital. Why?” Two
related questions are ‘Whose money is it, anyway?’, and ‘Do Canadian
investors have a free and efficient market?’

How can information that is already in the public domain at SEDAR
make for a state secret? How could such information be used to harm
the Canadian national interest? And who would cause the harm?

Why won’t the Canadian media investigate the falsehoods and
misrepresentations told by the Minister of Finance to a committee of
Parliament? Was the Minister in contempt of Parliament?

Why won’t the Canadian media report (a) government tax revenues
gained from BCE in 2006 when BCE was a corporation to (b) government
tax revenues that would be gained in 2007 from BCE, if BCE had been
allowed to proceed to a trust, and (c) government tax revenues that
will be gained in 2007 from BCE, when BCE ownership has been carved
up as 45% foreign ownership and 55% large Canadian pension fund
ownership?